Tuesday, 31 January 2017

When May visited
Trump, the UK media were full of comparisons with Thatcher and
Reagan. The US free press paid little attention to the visit, because
they were fully preoccupied by the enormity of what was happening to
their country. They were not seeing the first few tentative steps of
another Republican president, they were seeing the confident strides
of the equivalent in the UK not of Nigel Farage, but the leader of
the BNP or the EDL. If you think this is going over the top, read on.

There were three
kinds of story about Trump that encouraged people to think things
wouldn’t be so bad. The first, which we now know is untrue, is that
he would surround himself with more experienced and wiser counsel.
Instead probably the most powerful
man in Trump’s White House is Steve Bannon.
He is executive chairman of Breitbart News, essentially a far right,
or what is called in the US alt-right, news and opinion outlet that
promotes white supremacist, anti-Muslim, anti-Semitic ideas. One of
Trump’s latest actions
is to oust the director of intelligence and the chairman of the Joint
Chiefs of Staff from always attending the Principals Committee of the
National Security Council and replacing them with Bannon. John McCain
said the appointment of Mr. Bannon is a radical departure from any
National Security Council in history.

The second story was
that everything said on the campaign trail was to win the presidency,
and that once that was achieved more ‘serious’ (aka traditional
Republican) measures would be introduced.
(US financial markets might
have bought into that idea, and are now beginning to realise their
error.) Once again the first few days, and particularly this travel
ban, have proved that wrong. Trump is enacting the headline measures
that were both highly controversial and also effective on the
campaign trail, and doing that fast. This is smart politics. His
strength was never in the Republican party or in the business
community, but in those who watch propaganda networks like Fox News
and who helped him into the White House.

The final story,
which continues on both the left and right, is that Trump and his
team are inexperienced buffoons who will quickly make fools of
themselves, and will be brought to heel by the checks and balances of
the US constitutional system. Its too early to tell, but the signs so
far do not look good. Take the holocaust statement. According to this
story, leaving out any mention
of Jews or anti-Semitism from the Holocaust Day statement was perhaps
an oversight that would get corrected later. But it was not,
but instead intentional and purposeful.

A far more plausible
explanation of what is going on is that it is part of a strategy,
not only to firm up Trump’s base but also to test those checks and
balances. Telling border agency staff to ignore
court orders is not confusion but deliberate, to see how far they can
go. Initial reports that the top state department officials had
resigned were perhaps deliberate misinformation: they were all fired
by the White House, with no replacements in sight. What this looks
like is a concentration of power at the very centre. The lack of
consultation about the immigration order was not inexperienced
oversight but the shape of things to come.

The trouble with
checks and balances are that they are designed to work on the margin,
stopping small acts of overreach by different parts of a normal
government. Whether they can cope with a determined and fast moving
small team in the White House we have yet to see. These checks and
balances are often slow. For example Trump has become president with
his business affairs hardly altered. The travel ban excluded the four
countries in the area in which Trump has business interests. “This
isn’t the way the presidency has worked since Congress passed the
Ethics in Government Act in 1978,” said
the director of the U.S. Office of Government Ethics, but what is
anyone going to do about it?

Given all this, for
Prime Minister May to celebrate
a “new era of American renewal” after meeting Trump represents
either craven grovelling or a complete misreading of what is going
on, or both. As Simon Schama tweets:

“Nothing is being renewed in USA except hatred. Nothing is being
renewed in USA except ignorance and the dissolving of distinction
between lies and truth. Nothing is being renewed in USA but much is
being destroyed: equity under law, the climate, civil decency, public
education, public health.”

If you think that quote, and this post more generally, are
overreactions of the type often found in the worst kind of left-wing
hyperbole, here
is Charles Koch, scourge of the American Left: “We have a
tremendous danger because we can go the authoritarian route ….”.

All this is going to
have huge consequences for the people of the US and the world. But I
make no apology for ending on a more parochial point, because it is
critical and happening right now. Brexit is like a train with no way
of stopping before its destination, full of people who think they are
going to paradise, but their paradise has just been taken over by
someone who is turning it into hell. Does our leader say we must get off the train before it
starts, fit it with more brakes or even that we must pause before we
leave? No, she says she sees and hears nothing, and even the normally
rebellious guard says we must follow the will of the people. As Trump
goes about putting his campaign pledges into action within days of
taking office, Boris Johnson in the Commons yesterday actually said
that it was clear that “Trump’s bark is considerably worse than
his bite”. Keynes may not have said
“When the facts change I change my mind. What do you do, sir?”,
but it is the right question to ask right now..

Sunday, 29 January 2017

The last time I
did something like this was to urge Labour party members to vote for
Smith rather than Corbyn, knowing full well that Corbyn was almost
certain to win. Being proved right on that occasion is no
consolation, because I would rather have been wrong. This is even
more futile, but now as then I feel a decision is about to be made that is both disastrous and irreversible.[1] I also want to say something about the
longer term interests of MPs that I have not seen said elsewhere.

There are so many principled reasons for MPs to vote against triggering Article 50.
Let me summarise what I see as the main ones here, but this is
far from comprehensive.

The vote was
close, and is advisory.
Unlike the Scottish referendum, it excluded 16 and 17 year olds, who
by the time we actually leave will be able to vote. Demographic
trends suggest that at some time in the near future the referendum
would go the other way. Migrants from the UK were excluded, even
though they are directly affected by the vote and legislation is on
the table
to give them votes for life in a UK election.

The vote was
also won on the basis of clear
lies of a kind that have never been used in a UK election before.
There is strong evidence
that these lies helped swing votes. I would add that the broadcast
media facilitated the propaganda coming from most of the
tabloid press, in particular by treating knowledge as opinion.

The
referendum was only about leaving the EU, and not about how
we leave the EU. In particular, it was not about leaving the Single
Market. We have no way of knowing which way a referendum
on the Single Market would go. May’s logic that the referendum was
‘really’ about immigration and that therefore we have to leave
the Single Market is conjecture. Polls on immigration that do
not also note the costs of reducing immigration are worthless, like
polls that ask about cutting taxes.

A proper
response to the referendum would be to note that many ways exist to
leave the EU, including staying in the Single Market, and allow
parliament to decide what the UK’s negotiating position should be. The statesman like response to such a narrow vote would be to seak the softest of Brexits. The fact that May does not wish that to happen is an affront to
parliamentary democracy. That alone is reason enough to vote
against.

[Added 30/1/17] What triggering Article 50 actually means is still unclear. Is it reversible? Do we have to wait until we leave before we can negotiate new trade agreements with the EU? As Rick says, you would not exchange contracts on a house with these kind of fundamental uncertainties unresolved. Why has everything to be so rushed?

But alas, being
realistic, this is not the basis on which many MPs will vote. Instead
they will think about their political careers, and the backlash they
will encounter if they vote No to Article 50. But conventional wisdom
on this is at best incomplete and quite probably wrong for many MPs.

The assumption in
much of the media, encouraged of course by the tabloids, is that MPs
in constituencies that voted Leave will face a backlash from angry
Leave voters if they personally vote No to triggering Article 50. However it
is far from clear that the number of Leave voters who would change their vote on this basis is greater than the number of Remain voters who will do the opposite. My reason for thinking this
is partly the local and national election results since the Brexit
votes, where we have seen huge swings to the LibDems in both Remain
and Leave constituencies. It is also because, unlike Leave voters,
many remain voters are personally affected by the referendum result.
They may have family living in the EU, or have close colleagues who
are from the EU. They may work in firms that could well decide or be
forced to downsize if we leave the Single Market.

If May is defeated
on Article 50, she will almost certainly call an immediate election.
How will the fortunes of a MP that voted for Yes to triggering Article 50 compare to any that vote No? Labour MPs that vote No will lose some Leave voters, but these are likely to split between Conservatives and UKIP. They may do this even if they vote Yes because they will have read in their papers that Labour is stalling Brexit. Conservative voters that vote No are
unlikely to lose many votes to UKIP. Those from either the
Conservatives or Labour that vote Yes are likely
to lose many Remain voters to the LibDems. How these opposing forces pan out is very
difficult to judge, and is likely to vary a great deal across
constituencies, and without additional information it is far from obvious why MPs should only worry about Leave voters.

Labour MPs may feel
that they are bound to lose badly in a quick election because Corbyn
is so unpopular. I think that is right, but for every reason why that
might get better by 2020 I can think of reasons why it will get
worse.

But all this is
thinking short term. MPs that are not ideologically opposed to the EU
must surely know that Brexit is very likely to be a disaster. The impact of
leaving the Single Market is going to be pretty bad, but as the OBR
has made clear the impact of reduced immigration from the EU on the
public finances is also going to be large. To tell yourself that this
is all uncertain is to deliberately ignore the judgement of the best
economists both at home and overseas and the major economic
institutions. The outlook for the NHS and other public services is
therefore dire.

The government’s
position is full of contradictions. They are desperate to make trade
deals with anyone, but are
prepared to see a sharp fall in trade with the huge market that is
our closest neighbour. They say that leaving the EU is to regain sovereignty, but
every expert knows that the major gains from trade, particularly for the service orientated UK economy, come from reducing
non-tariff barriers which inevitably compromise sovereignty (look
at UK trade to the EU before and after we helped create the Single
Market). Do we really want to take back control from Europe only
to give it to Donald Trump?

The political
implications of May’s
strategy are more speculative, but initial signs are not good. May now
finds herself unable to condemn the immigration policy of President
Trump that overtly discriminates against Muslims including UK MPs, and which is the biggest gift to terrorists since Bush talked
about a crusade. (At least when that happened Blair was quick to tell
him to stop.) May has threatened to turn the UK into a tax haven if
the EU do not meet our demands, once again without parliament having
any say. All this makes her desire to help the left behind and the
just managing into empty words that will become a sick joke. She sees
reducing immigration as an absolute priority, which will further hurt
business and feed growing UK xenophobia.

All this means that
Conservative MPs who will vote with the government because they have
ambitions for a ministerial career will find if they succeed that
they will spend most of their time administering cuts. If it passes, the Article 50 vote will soon be regarded by Labour members as they now regard the vote over the Iraq war, meaning that those that vote Yes
will find it very difficult to achieve a senior position in the
Party. Another comparison with similar implications is Suez, another failed attempt to regain a lost imperial past.

All this should make
MPs very reluctant to base their decision on perceived self interest,
when that cuts so many ways. They should instead heed the words of a well known ex-MP.

“The first duty of a member of Parliament is to do what he thinks
in his faithful and disinterested judgement is right and necessary
for the honour and safety of Great Britain. His second duty is to his
constituents, of whom he is the representative but not the delegate.
Burke's famous declaration on this subject is well known. It is only
in the third place that his duty to party organization or programme
takes rank. All these three loyalties should be observed, but there
in no doubt of the order in which they stand under any healthy
manifestation of democracy.” Sir Winston Churchill on the Duties of
a Member of Parliament. (Source)

MPs should ask where stands the honour of Great Britain when its
leader feels that Brexitprevents her joining leaders in Europe and Canada in condemning Trump's Muslim ban.[1] At present there is no mechanism for parliament to stop the process of leaving the EU once they trigger A50, whatever Corbyn may imply. Once we leave, rejoining will almost certainly mean we would have to join the Euro, which is not a good idea..

Friday, 27 January 2017

During the arguments
over austerity, its supporters would often point to 1976 as evidence
that it was possible for a country with its own currency to have a
debt funding crisis. At the time this was frustrating for me, because
I had been a very junior economist in the Treasury at the time, and
my dim recollection was of an exchange rate crisis rather than a debt
funding crisis. But I could not trust my memory and did not have time
to do much research myself.

So with the
publication of a new book
by Richard Roberts on this exact subject (many thanks to Diane Coyle,
whose FT review of the book is here),
I thought it was time to revisit that episode combining Robert's comprehensive account with our current
understanding of macroeconomic theory. I think any macroeconomist
would find what happened in 1976 puzzling until they realised that
senior policymakers did not have two key pieces of modern knowledge:
the centrality of the Phillips curve, and an understanding of how the
foreign exchange market works.

In terms of where
the economy was, there is one crucial difference between 1976 and
2010. In the previous year of 1975 CPI inflation had reached a
postwar peak of 24.2%. Although that peak owed a lot to a disastrous
agreement with the unions, it probably also had a lot to do with the
‘Barber boom’ which had led to output being 6.5% above the level
at which inflation would be stable in 1973 (using the OBR’s measure
of the output gap). Although this output gap had disappeared by 1975
and 1976, inflation was still 16.5%. Given the lack of any kind of
credible inflation target a period of negative output gaps would
almost certainly be required to reduce inflation to reasonable
levels.

The lack of
understanding by senior policymakers of how the foreign exchange
market worked was due to floating exchange rates being a novelty,
Bretton Woods having broken down only 5 years earlier. We had a
policy of ‘managed floating’, where policymakers thought the Bank
of England could intervene in the FOREX markets to ‘smooth’ the
trajectory of the exchange rate. My job at the time - forecasting the
world economy - was a long way from where the action was, but my main
recollection of the time comes from one of the periodic meetings of
all the Treasury’s economists. It seemed as if the Treasury’s
senior economists believed in the ‘cliff model’ of the exchange
rate. The cliff theory suggests that if the rate moves significantly
away from the target that the Bank was aiming at, it would collapse
with no lower bound in sight. At the meeting I remember some more
junior economists (but more senior than I) trying to explain ideas
about fundamentals and Uncovered Interest Parity, but their seniors
seemed unconvinced.

It is much easier to
understand the 1976 crisis if you see it as a classic attempt to peg
the currency when the markets wanted to depreciate it, and this is the main story Roberts tells.. The immediate
need of the IMF money was to be able to repay a credit from the G10
central banks that had been used to support sterling. It is also true
that sales of government debt had been weak, but Roberts describes
this as stemming from a (correct) belief that rates on new debt were
about to rise - a classic buyers strike. Although nominal interest
rates at the time were at a record high, they were still at a similar
level to inflation, implying real rates of around zero.

Here we get to the
heart of the difference between 2010 and 1976. If there had been a
strike of gilt buyers in 2010, the Bank of England would have simply
increased its purchases of government debt through the QE programme,
the whole aim of which was to keep long rates low. They could do this
because inflation was low and showed no sign of rising. Contrast this
with 1976, with inflation in double figures but real rates were near
zero.

I think what would
strike a macroeconomist even more about this period was the absence
of the Phillips curve from the way policymakers thought. Take this
extract from the famous Callaghan speech to the party conference that
Peter Jay helped draft.

“We used to think
that you could spend your way out of a recession and increase
employment by cutting taxes and boosting government spending. I tell
you with all candour that that option no longer exists, and so far as
it ever did exist, it only worked on each occasion since the war by
injecting a bigger dose of inflation into the economy, followed by a
higher level of unemployment as the next step”

As a piece of text
it only makes sense to modern ears if there is a missing sentence:
that we failed to raise taxes and cut spending in a boom. Far from a
denunciation of Keynesian countercyclical fiscal policy, it was an
admission that politicians could not be trusted with operating such a
policy, essentially because they imagined they could beat the
Phillips curve using direct controls on prices and incomes. The fact
that fiscal rather than (government controlled) interest rate policy
was being used as the countercyclical instrument here was incidental.

Reading this book
also confirmed to me how misleading the Friedman (1977) story
of the Great Inflation was, at least applied to the UK. These were
not policymakers trying the exploit a permanent inflation output
trade-off, but policymakers trying to escape the discipline of any
kind of Phillips curve. They were also policymakers who had not fully
adjusted to a floating rate world, and the IMF crisis was
superficially a failed attempt to manage the exchange rate. More
fundamentally It was also a reaction by the markets to a government
that was not doing enough to bring down an inflation rate that was
way too high. The IMF loan was useful both as a means of paying back
existing foreign currency loans, but also a means of getting fiscal
policy and therefore demand to the level required to reduce inflation.

Although inflation
fell steadily until 1979, another boom in 1978 together with rising
oil prices reversed this, and through the winterof discontent helped elect Margaret Thatcher.
Unfortunately the IMF crisis and the 1970s more generally is another example of the consequences of
politicians, in this case particularly those on the left, not
accepting basic lessons from economics.

Monday, 23 January 2017

Stewart Wood has a
well argued piece
in the New Statesman, saying that it was the move by left and right
towards a common centrism that laid the foundations for populism.
Although parts of his argument ring true, I find others less
convincing..Labour certainly moved to the centre and beyond in terms
of its economic policies. The Conservatives moved to the centre in
terms of social policy. But on economic policy, the Conservatives
moved strongly to the right with austerity. Senior Labour thinkers
still seem to have a blind spot on austerity.

Let me start by
looking at the country that now has populism in spades as a result of
electing Donald Trump as President. To argue that the Republican
party has been moving to the centre over the last 30 years is obvious
nonsense. The traditional centre right virtue of fiscal rectitude
went out of the door with Ronald Reagan, and was completely ignored
under the second Bush. The Republicans only extol the virtue of
cutting budget deficits when they are not in power. When they are in
power, they want cuts in taxes for the rich, increases in military
spending but cuts in other government programmes.

Margaret Thatcher
was considered pretty right wing when she was in power. Many of her
key achievement in terms of her own agenda, such as a diminished
union movement and shrinking the state through privatisation, were
not reversed by Blair and Brown. It is difficult to argue that the
Cameron/Osborne duo made any attempt to undo the Thatcher legacy.
Instead they tried to go beyond it, by shrinking the state to a size
relative to GDP not seen since the end of WWII. They did it under the
pretense that they were forced to because otherwise the markets would
no longer buy government debt. This was a colossal deceit. There no
evidence that markets were concerned about government debt, and
strong evidence that they were not. [1] This deceit should have
become clear when Osborne cut taxes at the same time as continuing to
cut spending.

Let me use a diagram
to illustrate what I mean. [2] (The vertical axis could also be labelled 'identity' as well as 'culture'.) No doubt we could discuss the detail
of the size and direction of the arrows, but I think this is roughly
right.

In the US, the
Republicans had moved steadily in a downward, socially conservative
right wing direction, whereas the broad church that are the Democrats have largely remained in
the same place (unless you go as far back as the southern Democrats). One possible argument is that this move by Republican
politicians helped create the Tea Party. Republicans have always
pretended their policies would help ordinary people, whereas in
reality they have helped a rich elite. This has laid the ground for a
populist leader who was prepared to move economic policy in certain
respects away from the right (in particular advocating
protectionism). The growing loss of respect of
Republicans for their party elite allowed voters to ignore the views
of senior Republican leaders in selecting Trump as their candidate.

In the UK David
Cameron moved the Conservatives to become much more liberal, by in
particular supporting gay marriage. (When I argued in an earlier post
that the Conservatives had moved to the right, I was surprised how
many comments I got back telling me this was nonsense, and naming gay
marriage as the main reason why.) In the UK this left a large gap in
this political space, which UKIP - the first successful mass party in
England since the SDP - filled. As Jonathan
Wheatley showed,
UKIP members are social conservatives, but are much more left wing
than the Conservatives in terms of economics.

Labour moved to the
right under Blair, while remaining socially liberal. I agree with
Stewart Wood that this alone was important in preparing the way for
populism. As well as the lack of a major industrial policy, they did
nothing to curb a rampant financial sector or reverse the gains of
the 1% that were a feature of the Thatcher period, a point emphasised
by Jean Pisani-Ferry in respect of both the UK and US. I think New Labour’s position is better
described as liberal rather than
neoliberal: New Labour substantially increased the amount of resources
(as a proportion of GDP) going to the NHS, and they also did a great
deal to try and reduce child poverty. Labour moved further right (and
more neoliberal) as they became more accommodating towards austerity.
It was hardly a surprise that party members tried to pull the party
back by electing Corbyn as leader.

As I argued here,
Brexit was a perfect storm where the economically left behind united
with social conservatives. With Labour no longer seen as representing
the working class, this allowed the right wing media (with the
support of the Conservatives) to help convince the left behind that
their problems were a consequence of immigration. The Leave campaign
was populist in the sense I describe here:
advocating a superficially attractive policy to some that would leave
everyone worse off. Much the same is true for Trump, who won the
electoral college by convincing the left behind that he really could
bring back their traditional jobs, something he will be unable to do
in any kind of general way.

So the idea of
growing centrism in the US makes no sense, yet it is they who have
just voted for a populist President. In the UK it only makes any kind
of sense if you think in one dimensional terms.

[1] This is
essentially because the Bank of England was pledged to buy whatever
it took in the way of government debt to keep interest rates low.

[2] I think the
first time I began thinking in this two dimensional way was this post,
but more recently I used it to analyse
the forthcoming French election.

Saturday, 21 January 2017

Forgive the
numbered note form. For some reason it seems appropriate to me in
this case

The financial
crisis in the UK was the result of losses by banks on overseas
assets, originating from the collapse in the US subprime market. It
was not a result of excessive borrowing by UK consumers, firms or
our government. As the Bank’s Ben Broadbent points
out, “Thanks to the international exposure of its banks the UK
has been, in some sense, a “net importer” of the financial
crisis.” This overseas lending caused a crisis because banks were
far too highly
levered, and so could not absorb these losses and had to be bailed
out by the government.

This is why
UK macroeconomists failed to pick up the impending crisis. They did
routinely monitor personal, corporate and government borrowing, but
not the amount of bank leverage. Macroeconomists generally
acknowledge that they were at fault in ignoring the crucial role
that financial sector leverage can play in influencing the
macroeconomy. There has been a huge increase in the amount of
research on these finance-macro linkages since the crisis.

But supposing
economists had ensured that they knew about the increase in bank
leverage and had collectively warned of the dangers of excessive
risk taking that this represented. Would it have made any
difference? There are good reasons for thinking it would not.

The main
evidence for this is what has happened after the crisis. Admati and
Hellweg have written
persuasively that we need a huge increase in bank capital
requirements to bring the ‘too big to fail’ problem to an end
and avoid a future banking crisis, and the work of David Miles in
the UK has a similar
message. I have not come across an academic economist who seriously
dissents from this analysis, but it has no impact on policy at all.
The power of the banking lobby is just too strong.

So the
response of economists to the financial crisis has been as it should
be. The error in neglecting bank leverage is being addressed.
Economists have come up with clear proposals about how to avoid the
crisis happening again. And these proposals have been pretty well
ignored.

In terms of
conventional monetary and fiscal policy, academic economists got the
response to the crisis right, and policymakers got it very wrong.
Central banks, full of economists, relaxed monetary policy to its
full extent. They created additional money, rightly ignoring those
who said it would bring rapid inflation. Many economists, almost
certainly a majority, supported fiscal stimulus for as long as
interest rates were stuck at their lower bound, were ignored by
policymakers in 2010, and have again been proved right.

So given all
this, why do some continue to attack economists? On the left there
are heterodox economists who want nothing less than revolution, the
overthrow of mainstream economics. It is the same revolution that
their counterparts were saying was about to happen in the early
1970s when I learnt my first economics. They want people to believe
that the bowdlerised version of economics used by neoliberals to
support their ideology is in fact mainstream economics.

The right on
the other hand is uncomfortable when evidence based economics
conflicts with their politics. Their response is to attack
economists. This is not a new phenomenon, as I showed
in connection with the famous letter from 364 economists. With
austerity they cherry picked the minority of economists who
supported it, and then implemented a policy that even some of them
would have disagreed with. (Rogoff did not support the cuts in
public investment in 2010/11 which did most of the damage to the UK
economy.) The media did the rest of the job for them by hardly ever
talking about the majority of economists who did not support
austerity.

The economic
costs of Brexit is just the latest example. Critics have focused on
the most uncertain and least important predictions about Brexit,
made only by a few, to attack all Brexit analysis. The fact that
this prediction involved an unconditional macro forecast, while the
assessment made by a number of groups about the long term cost
involves a conditional projection based largely on trade equations,
seems to have completely escaped the critics. More important, the
fact that the predicted depreciation in sterling happened, and is in
the process of already causing a large drop in living standards, is
completely ignored by these critics.

Attacking
economists over Brexit is designed to discredit those who point out
awkward and uncomfortable truths. Continuing to attack economists
over not predicting the financial crisis, but failing to ignore
their successes, has the effect of distracting people from the group who actually caused this crisis, and the fact that very
little has been done to prevent a similar crisis happening in the
future.

Wednesday, 18 January 2017

Parliament
should be able to vote on whether leaving the EU means destroying
this legacy.

The story of how Mrs
Thatcher helped in the creation of the Single Market is told by
Helene Von Bismarck here.
She believed it would be of great benefit to the UK, and she was
right. Here is a nice chart from this CBR report
I discussed in my last post.

It shows the share
of UK exports as a percentage of the GDP of the area exported to, for
both the EU and the rest of the world. The rapid increase in the UK
export share, doubling between 1990 and the beginning of the
financial crisis, has to be largely down to the Single Market. [1]

But didn’t the CBR
report say that the benefits of the Single Market had been
exaggerated by the Treasury? Yes it did. Here is some of its
reasoning. That growth in UK export share after the Single Market is
not as impressive as it looks, because there is an underlying 6%3.5% ** positive trend in the share relative to non-EU penetration, which you can detect before we joined
the EU. That looks pretty on a picture, until you realise it is
nonsense. A 6%3.5% trend rise in an export share will imply that at some
point not too far away UK exports to the EU will be as high as total
EU GDP. UK exporters are just not that much better than exporters in
other countries. There is no underlying trend rise in the UK’s
export share.

As I say
in The Independent, the rationale for going down the route of leaving
the Single Market is completely wrongheaded. First, the Brexit vote
was close - hardly a ringing endorsement for undoing Thatcher’s
legacy. Second, all the evidence we have is that large numbers of
Leave voters are not prepared to accept a reduction in their living
standards as a price for reducing immigration, a reduction which is
in the process of happening right now as a result of the collapse
in Sterling. If you say we have no real evidence for this, show me
your evidence that the referendum vote was a vote to leave the Single
Market. If May really believes it when she says that the recent
strength of the economy has convinced her that the costs of Brexit
will not be that great, she is a fool. Third, the logic of saying
that we cannot accept Single Market rules because we would have no
say in what they are makes no sense because we will be worse off not
accepting them. Once again, a majority of the country does not want
to ‘take back control’ if it costs them money.

I say in The
Independent that this is happening because May wants to finally show
that she can bring down immigration, after 6 years trying and
failing. It is also because she thinks she has to do this to keep her
party together. But what Brexit means should not be up to the Prime
Minister, particularly one who cannot be objective about immigration
and who is a hostage to the Eurosceptic half of her party. The Single
Market decision should be up to parliament. Leaving the Single Market
was not on the referendum ballot paper, so it is not the ‘will of
the people’. It does not follow automatically from the Leave
decision, as many Leave campaigners correctly assured us before the
vote.

Parliament should
decide on whether we leave the Single Market as part of leaving the EU, not Theresa May. That
is what living in a parliamentary democracy is all about. If the
government denies MPs the chance to vote for leaving the EU but
against leaving the Single Market, then that is effectively a coup
against our democracy. MPs should block approval of invoking Article
50 until they get the opportunity to vote, in a way that is binding
on the Prime Minister, to stay in the Single Market.

** I made a mistake in the original version of this post: corrected figures and clarifying text are in italics. For more details see this post

[1] The chart also
casts doubt on the argument that being in the EU has held back UK
exports to the rest of the world. This share was falling before we
entered the EU, but has stabilised while we were a member.

Tuesday, 17 January 2017

If there is Fake
News, is there such a thing as Fake Economics? I thought about this
as a result of two studies that have received considerable publicity
in the press and broadcast media over the last few weeks. Both,
needless to say, involve Brexit. The first are two bits of analysis
by ‘Change Britain’, saying Brexit would generate
400,000 new jobs and
“boost the UK by £450 million a week”. The second is a more
substantial piece of work
by economists at the Centre for Business Research (CBR) in Cambridge,
which was both very critical of the Treasury’s own analysis of the
long term costs of Brexit and came up with much smaller
estimates of its own for these costs.

Defining exactly
what Fake News is can be difficult,
although we can point to examples which undoubtedly are fake, in the
sense of reporting things to be true when it is clear they are not. Fake
News often constitutes made up facts that are designed for a
political purpose. You could define Fake economics in a similar way:
economic analysis or research that is obviously flawed but whose
purpose is to support a particular policy. (Cue left wing heterodox
economists to say the whole of mainstream economics is fake
economics.) We can equally talk about evidence based policy and its
fake version, policy based evidence.

The study by Change
Britain seems to fit into that category. In looking at the impact on
jobs of potential new export markets once Brexit has happened, it
counts the jobs from any extra exports but ignores
the jobs lost from extra imports. It adds the extra value of exports
sold to the direct budgetary saving, which is a meaningless
thing to do.

The CBR analysis is
less obviously fake. However Ben Chu has gathered
the views of some academics who are experts in trade theory,
including Richard Baldwin (who has just written a definitive and
widely praised book
on the ‘new globalisation’) and AlanWinters, both hugely respected with immense
experience, who pour some very cold water over the study.

My key point is that
both of these studies were given considerable exposure in the media,
and not just in the part devoted to pro-Brexit propaganda. Here
is Larry Elliott in the Guardian on the CBR study. In all the cases
I’ve seen the reporting has been uncritical, with no attempt to get
the opinion of experts in the field. (The Guardian in their coverage
of the ‘Change Britain’ report did note that the organisation was
backed by pro-Leave campaigners, but it still published the claims
without any criticisms of the analysis.)

It is not difficult
to understand why this happens. It is a combination of two problems:
lack of journalistic resources and the concept of old news. It is the
latter that means a report has to be reported on the day of
publication, leaving little time to get critical reactions
(particularly from academics). But these factors do mean that the
non-partisan mainstream media is wide open to fake economics.
(Columnists like Elliott should be able to do better, but he did
support Brexit.)

This is how the
public, and to be honest, journalists themselves get a distorted view
of the economics of Brexit. The impression is given that, as usual,
economists are divided over the issue, whereas in reality academics
are pretty well united in their view that Brexit will reduce UK
living standards. (And of course it already has.as the depreciation
leads to inflation and lower real wages.)

Journalist resources and culture are not going to change anytime soon. Which is
why economists have to think seriously as a collective about how they can
best counter fake economics. This has to involve doing something
individual academics are not very good at: giving fast responses if
journalists ask whether some new report is serious economics or fake
economics. .

Sunday, 15 January 2017

Ever since I started
blogging I have written posts on macroeconomic methodology. One
objective was to try and convince fellow macroeconomists that
Structural Econometric Models (SEMs), with their ad hoc blend of
theory and data fitting, were not some old fashioned dinosaur, but a
perfectly viable way to do macroeconomics and macroeconomic policy. I
wrote this with the experience of having built and published papers
with both SEMs and DSGE models.

Olivier Blanchard’s
third post
on DSGE models does exactly the same thing. The only slight confusion
is that he calls them ‘policy models’, but when he writes

“Models in this class should fit the main characteristics of the
data, including dynamics, and allow for policy analysis and
counterfactuals.”

he can only mean SEMs. [1] I prefer SEMs to policy models because
SEMs describe what is in the tin: structural because they utilise
lots of theory, but econometric because they try and match the data.

In a tweet, Noah Smith says he is puzzled. “What
else is the point of DSGEs??” besides advising policy he asks? This
post tries to help him and others see how the two classes of model
can work together.

The way I would estimate a SEM today (but not necessarily the only
valid way) would be to start with an elaborate DSGE model. But rather
than estimate this model using Bayesian methods, I would use it as a
theoretical template with which to start econometric work, either on
an equation by equation basis or as a set of sub-systems. Where lag
structures or cross equation restrictions were clearly rejected by
the data, I would change the model to more closely match the data. If
some variables had strong power in explaining others but
were not in the DSGE specification, but I could think of reasons for
a causal relationship (i.e. why the DSGE specification was
inadequate), I would include them in the model. That would become the
SEM. [2]

If that sounds terribly ad hoc to you, that is right. SEMs
are an eclectic mix of theory and data. But SEMs will still be useful
to academics and policymakers who want to work with a model that is
reasonably close to the data. What those I call DSGE purists have to
admit is that because DSGE models do not match the data in many
respects, they are misspecified and therefore any policy advice from
them is invalid. The fact that you can be sure they satisfy the Lucas
critique is not
sufficient compensation for this misspecification.

By setting the relationship between a DSGE and a SEM in the way I
have, it makes it clear why both types of model will continue to be
used, and how SEMs can take their theoretical lead from DSGE models.
SEMs are also useful for DSGE model development because their
departures from DSGEs provide a whole list of potential puzzles for
DSGE theorists to investigate. Maybe one day DSGE will get so good at
matching the data that we no longer need SEMs, but we are a long way
from that.

Will what Blanchard and I call for happen? It already does to a large
extent at the Fed: as Blanchard says what is effectively their main
model is a SEM. The Bank of England uses a DSGE model, and the MPC
would get more useful
advice from its staff if this was replaced by a SEM. The real problem
is with academics, and in particular (as Blanchard again identified
in an earlier post) journal editors. Of course most academics will go
on using DSGE, and I have no problem with that. But the few who do
instead decide to use a SEM should not be automatically shut out from
the pages of the top journals. They would be at present, and I’m
not confident - even with Blanchard’s intervention - that this is
going to change anytime soon.

[1] What Ray Fair, longtime builder
and user of his own SEM, calls Cowles Commission models.

[2] Something like this could have happened when the Bank of England
built BEQM,
a model I was consultant on. Instead the Bank chose a core/periphery
structure which was interesting, but ultimately too complex even for
the economists at the Bank.